Managing Wheat Markets’ Anomalies
Throughout the growing season, it constantly feels like you’re go, go, go until all the equipment’s tucked away in the shop for another winter (minus the tractor that you have to put blade on to clear snow). But, if you’re managing your time appropriately, you might find yourself with a few days here or there to maybe head to the lake for a few hours, catch up on the books, or even take a mid-day nap (these last 2 seem to only happen when it’s raining). However, in the early days of August, before the combines start going full tilt, it’s also a stark reminder of how, if you’re not proactive in your wheat marketing plan, you’re wondering when you should’ve locked in a forward contract/price.
As the charts for new crop HRS wheat prices show, only weather events have really created the “best” marketing opportunities during the growing season. 2017/18’s new crop prices were the obvious anomaly in the last few years as drought concerns led wheat prices to once-in-a-decade-or-generation-highs. However, if you look at the new crop basis chart below, you can tell that basis levels went the opposite way of what cash prices did.
Therein lies the challenge: should you be planning for this type of anomaly every year? The answer is definitively, “no”, as it’s defined as an anomaly for this exact reason. Instead, managing your wheat marketing plan should be moreso focused on the law of averages and reducing your exposure to downside price risk. For example, if I know that I usually have 50% of my wheat harvest completed by the middle of September, I could consider forward contracting a few bushels for delivery before September 15th.
The next “what if” I usually get is Some people will also ask me, “Hey Brennan, what if I don’t produce the average amount or quality that I usually do? Won’t that mean I’m exposed to more downside risk in the form of discounts or penalties?” My answer is usually a question I ask back: “How many years, in all your years of farming, have you never produced at least 20% of what you expected to?” Rarely do I find a farmer who has had that tough of a year. The other variable here is how often does this happen? Again, it’s very rare. So rare, in fact, that it’s about a 4% likelihood (or 1 crop in 25 years that produced less than 20%) that you won’t be able to produce something that you can sell.
My point here is that, despite your production/contract deliverability concerns, the downside risk in not locking in a price (and likely a profit) is a greater concern. Put another way, when the market starts to move up, the risk to the downside, or a reversal, also start to grow. For example, as simple food staples demand boomed in March, that was the time to lock in something, as we knew that the move in the price was an anomaly. While hindsight is 20/20 here, the risk management view (and one that I timestamped back in this very column in March) is that it was a one-off demand blip, and so I should sell a little bit of volume into that price strength, instead of waiting to see and understand how this whole COVID-19 thing was going to play out. If the price continued to move higher, I would’ve looked to continue to sell into that strength, be it for old or new crop.
While we can play “what if” scenarios all day, risk management is about working on the auspices of what’s more likely to happen, than what’s rarely going to happen. Price anomalies from COVID-19, trade issues, etc. do happen, but you shouldn’t tell your banker that you’re grain marketing plan is all about waiting for said anomalies to show up. The current pull-back in wheat prices is not an anomaly whatsoever, but, seasonality: as combines roll across the Northern Hemisphere, this is when the majority of supplies globally are hitting the market.
Since you and I both know this, why do you still think about selling off the combine, instead of filling contracts off the combine? In a recent Twitter exchange, I posited the only excuses for selling off the combine is because either (1) you forgot when seasonal harvest lows happen, (2) you weren’t thinking a few months ago about your cashflow needs in the fall, or (3) you have extra bushels and selling them right now is more of a logistical/storage decision to make, than it is a financial one. Ultimately, you must ask yourself this one question: is getting paid 15% - 20% less for a bushel at harvest for your first sale of the new crop, worth the benefit of delivering right off the combine? My answer is no, especially in these tight-margin years.
CEO | FarmLead
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